What is Behind the Steep Decline in the Crude Oil Prices: Glut or Geopolitics?
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RESEARCH PAPER What is Behind the Steep Decline in the Crude Oil Prices: Glut or Geopolitics? Mamdouh G Salameh| June 2015
What is Behind the Steep Decline in the Crude Oil Prices: Glut or Geopolitics? Series: Research Paper Mamdouh G Salameh | June 2015 Copyright © 2015 Arab Center for Research and Policy Studies. All Rights Reserved. ____________________________ The Arab Center for Research and Policy Studies is an independent research institute and think tank for the study of history and social sciences, with particular emphasis on the applied social sciences. The Center’s paramount concern is the advancement of Arab societies and states, their cooperation with one another and issues concerning the Arab nation in general. To that end, it seeks to examine and diagnose the situation in the Arab world - states and communities- to analyze social, economic and cultural policies and to provide political analysis, from an Arab perspective. The Center publishes in both Arabic and English in order to make its work accessible to both Arab and non-Arab researchers. Arab Center for Research and Policy Studies PO Box 10277 Street No. 826, Zone 66 Doha, Qatar Tel.: +974 44199777 | Fax: +974 44831651 www.dohainstitute.org
Table of Contents
OIL PRICES: GLUT OR GEOPOLITICS?
Introduction
The price of crude oil has declined 54% since September 2014, and there are no
indications that it will stop at this level in the absence of a major production cut by
Organization of Petroleum Exporting Countries (OPEC).
The reasons given for the steep oil price decline so far, has been a glut in the global oil
market. Theories say this is caused by rising US shale oil production and over-
production by some members of the OPEC beyond their production quotas, as well as a
slowdown in economic growth in China and the European Union (EU), thus reducing the
demand for oil. There may, however, be a second reason: the geopolitical impact of
events in Syria, Iraq, Libya, and Yemen. While the impact of these events may have
been eclipsed by rising US shale oil production and thus discounted by the global oil
market, it must certainly be taken into account. As for the issue of glut, it was
exacerbated by OPEC's very wrong decision not to cut production by at least 2 million
barrels a day (mbd) to absorb the glut in the oil market. Had they cut their production,
Russia and Mexico would have joined them and cut production by 500,000 barrels a day
(b/d) and 300,000 b/d respectively, a total of 2.8 mbd capable of removing the glut and
stabilizing the oil price. Russia and other non-OPEC producers would not cut their
production without OPEC leading the way. It is not too late for OPEC to reverse their
earlier decision and cut production.
Still, a glut in the global oil market estimated at 1-2 mbd and a slightly slower economic
growth in China and the EU should not have led to such a steep decline in oil prices.
The global economy suffered harsher and direr crises in the banking and economic
sectors simultaneously during the period of 2008-2011 and oil prices never declined as
steeply or for such a long time.
It has always been the case in the past that when oil prices fell steeply OPEC would
decide immediately to cut production as a way to bolster oil prices. This time, at its
166th meeting on the 27th of November 2014, OPEC decided under strong pressure from
Saudi Arabia not to cut production. Circumstantial evidence suggests some political
collusion between Saudi Arabia and the United States behind the steep decline in oil
prices aimed against Iran and Russia. Saudi Arabia took advantage of the low oil prices
to inflict damage on Iran’s economy and weaken its influence in the Middle East in its
proxy war with Iran over its nuclear programme. At the same time, the United States
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ARAB CENTER FOR RESEARCH AND POLICY STUDIES
took advantage of the low oil prices to weaken Russia’s economy and tighten the
sanctions against Russia over the Ukraine.
Saudi-US Collusion
History is repeating itself. Early in the 1980s, Sheikh Ahmad Zaki Yamani, the veteran,
former oil minister of Saudi Arabia, suddenly awoke to Saudi Arabia’s need for market
share. He flooded the market with oil causing the oil price to collapse to $10/barrel. It
later transpired that the Saudi need for a market share was just a cover for a CIA-Saudi
conspiracy to expedite the downfall of the Soviet Union.1 At virtually the same time the
United States, under former US president Ronald Regan’s administration, started an
arms race with the former Soviet Union. Hampered by the very low oil prices
engineered by Saudi Arabia and the United States in the early 1980s, the Soviet Union
wasted all its available financial resources in a futile arms race, thus hastening its own
collapse.
Today, the Saudi oil minister Ali al-Naimi is waking up to the same need. Al-Naimi has
followed in footsteps of Yamani. He suddenly remembered at the 166th meeting of
OPEC the need for Saudi market share. This is probably a cover for a new collusion
between the United States and Saudi Arabia to lower the oil prices, and thereby
conspire against Russia and Iran. Whilst the key players have changed, the strategic
objectives have remained the same. 2
Impact of Low Oil Prices on the Global Economy
A continuation of low oil prices could damage the global economy in many ways. Whilst
oil consumers around the world may enjoy low crude oil prices for a short while,
eventually global consumption will overtake global production and push oil prices up
steeply. The plunge of crude oil prices has already fuelled a big jump in US petrol
1
Seyed GholamHosein Hassantash, “Naimi in Yamani’s Attire; Are Authorities in Riyadh Witless or Lying?
History is being Repeated,” IAEE Energy Forum, 1st Quarter of 2015,p .21.
2
Ibid
2
OIL PRICES: GLUT OR GEOPOLITICS?
demand.3 Current low oil prices could be planting the seeds for a damaging oil crisis in
the next two to three years.
The global economy can’t reconcile itself with sustained low oil prices, because global
investments driven by the oil industry and the economies of the oil-producing countries
will be undermined. A curtailment of global investments—particularly the oil and energy
sectors—would prove a major challenge, as would sustained damage to the global oil
industry. Essentially, the ‘easy’ oil is running out and replacing that production is getting
ever more expensive. Exploration and production costs have risen 11% a year since
1999, while oil production has fallen.
The seven major oil companies—Royal Dutch Shell, BP, Exxon Mobil, Chevron, Total,
ENI and Statoil— need a price of $125-$135 US/barrel to balance their books. They also
need certainty about the future trend of oil prices before committing to huge
investments in exploration and production. As a result of declining prices, the oil majors
have already started to sell some of their production assets and reduce future
investments, which will translate in two years' time into a smaller share in global oil
production. This will be reflected in steeper oil prices. A Bloomberg News analysis of 61
US shale oil drillers early this year found that shale debt has almost doubled over the
past four years while revenue has increased by just 5.6%. The oil industry is doing its
best to keep face, but it can’t outrun the problems of its business model. The reality is
that low prices threaten the oil industry.
In January 2015, a clear message came from the reported 25%-30% drop in spending
by the North American customers of Schlumberger, Halliburton, and Baker Hughes; the
three largest international service companies that support oil and gas producers with
activities such as drilling, completing and analysing wells. There was also a drop
globally, dipping 10-15% in the rest of the world. Data published by Baker Hughes
show a 51% drop in the number of rigs drilling for shale oil in the US. Where there
were 1,609 rigs in October 2014, by the following march there were only 788. A survey
of oil companies’ capital spending intentions published by Barclays Bank in February
2015 painted a similar picture. Already $35 bn has been slashed from planned 2015
spending. Barclays’ survey said budgets for North America were expected to be cut by
30% or more if the price of oil were to stay below $50. North America’s more rapid
downturn is partly explained by the higher costs of US and Canadian shale production
compared with oil from the Middle East. A break-even price for US shale oil production
3
Ed Crooks & Gregory Mayer, “Crude’s Plunge Fuels Jump in US Petrol Demand”, Financial Times, 16
January, 2015, p, 28.
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ARAB CENTER FOR RESEARCH AND POLICY STUDIES
was estimated at $70-85/barrel. While some efficient shale oil drillers could live with an
oil price of $50-60 a barrel, many of them are fracking themselves into bankruptcy.
While the global slide in oil prices has focused on the relatively new American shale
oilfields, it is the mature, high-cost fields such as those in the North Sea that seem
likely to suffer most. At prices much below $75 a barrel, some of the North Sea
reserves might be too expensive to develop. BP, Chevron, BG Group, PLC, and Statoil
are already reassessing capital-spending decisions that might have helped extend the
oil province’s life. Without their investment, there is a growing risk that some of the UK
North Sea’s remaining economically-recoverable resources—estimated at between 15
and 16.5 billion barrels (bb) of oil and natural gas— will end up as so-called stranded
assets -hydrocarbons that are simply too expensive to develop.4 Even when oil prices
were more than $100 a barrel, some 1.5 bb of remaining North Sea oil were too
expensive to develop according to the international consultancy Wood Mackenzie. Now,
with Brent crude just above $50 a barrel, a further 1.4 bb currently being considered for
a final investment decision could be under threat.
Companies already deep in the red when the price of Brent was at $109 a barrel in
2014 have had to redraw business plans for prices as low as $50. According to Morgan
Stanley analysts, the seven oil majors ran a collective deficit of $55 billion (bn) in 2013.5
With the seven majors having sold assets worth $150 bn over the past four years, they
are gradually turning from super-majors to mini-majors: still among the biggest
companies in the world, but no longer behemoths able to bend prices so they fit their
investment cycle. Indeed, oil production by the seven majors has declined from 11.5
mbd (or 14.5% of global production) in 2003 to 9.5 mbd (or 10.4% of output) today.
Impact on the Arab Gulf Oil Producers
In defending OPEC’s earlier decision not to cut production, the Saudi oil minister seems
to be acting contrary to the best interests of the oil market. This was not, however,
how he justified the action. In an interview with Middle East Economic Survey (MEES)
on December 21, 2014, he said Saudi Arabia and OPEC were defending their market
4
Ed Crooks & Gregory Mayer, “Crude’s Plunge Fuels Jump in US Petrol Demand”, Financial Times, 16
January, 2015, p, 28.
5
Ron Bousso & Dmitry Zhdannikov, “Price Fall Hastens Decline of Big Oil as Western Majors Retreat”,
Reuters 9 October, 2014.
4
OIL PRICES: GLUT OR GEOPOLITICS?
share; “If they have cut their production, the price will go up and the Russians, the
Brazilians and US shale oil producers will take [the] Saudi and OPEC share.” While this
logic may hold for one producer, if every producer tries to defend its market share, they
all end up exacerbating the glut in the market and all will lose out. A second logic was
applied by the minister, who claimed that Saudi Arabia wanted to tell the world that
high-efficiency producing countries are the ones that deserve a market share. This
suggests that countries with proven reserves but high costs of production should leave
the arena open for more efficient producers.6 This would, of course, not go down too
well with high-cost producers. Saudi Arabia, however, seems entrenched in its plan,
claiming that even if the oil price declines to $20 a barrel, Saudi Arabia will not cut
production. This is more bravado than common sense, however, since it came with the
admission that the Saudi budget will have a deficit as a result of declining oil prices. The
oil minister said the country plans to borrow from the banks and use some of the
country’s financial reserves to cover the deficit. While Saudi Arabia seems to have a
plan in place, it does not make any economic sense to sustain a deficit in your budget
when it is within your power to prevent it in the first place. If oil prices continue at
$50/barrel for a year, Saudi Arabia will lose an estimated $128 bn.
The Saudi oil minister continues to try and persuade his fellow OPEC members that low
oil prices will lead to a collapse in rising US shale oil production. The flaw in his
argument is that, while it is true that very low prices will harm US shale oil production
in the short term, the damage to OPEC economies will be higher. Furthermore, shale
production will resume its upsurge once oil prices start to rise. What will hamper shale
oil production in the long term is geology and the rising costs of rigs. The fast depletion
of shale oil wells amounting to 70%-90% in the first year of production and the
eventual rise in the cost of rigs will be the decisive factors to eventually undermine US
shale oil production; not any efforts by OPEC. Leading US oil figures have insisted that
any slowdown in US shale oil production will be a temporary phenomenon. They have
rejected claims by Saudi Arabia that its plan was succeeding in squeezing US shale oil
producers, adding that Saudi Arabia should be a little less swift to gloat.7 Forecast to
6
Interview of Saudi oil minister Mr Ali al-Naimi with Middle East Economic Survey (MEES) as reported by
Petroleum Review in February, 2015, p. 4.
7
ED Crooks & Barney Jopson, “US OIL Veteran Rejects Saudi Shale Claims”, Financial Times, 15 May
2015, p. 17.
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ARAB CENTER FOR RESEARCH AND POLICY STUDIES
reduce state expenditure to $229 bn this year, down18% from 2014, a clear sign of the
impact the slump in crude prices is having on its finances. It will end up with a $38 bn
deficit amounting to 6% of GDP. As a result, Saudi Arabia’s non-oil economy is
expected to contract by 5% this year.8
Weakened oil prices have resulted in a ratings downgrade for Saudi Arabia by American
rating agency Standard & Poor (S&P), which earlier warned of slower growth across the
Gulf Cooperation Council (GCC). In a report, the agency said, “We view Saudi Arabia’s
economy as undiversified and vulnerable to a sharp and sustained decline in oil price,
notwithstanding government policy to encourage non-oil private sector growth.” Saudi
Arabia’s petroleum sector accounts for 44% of its GDP, and the non-hydrocarbon sector
relies heavily on government spending, which in turn depends greatly on revenue from
the oil and gas sector. About 85% of exports and 90% of government revenue stem
directly from the oil sector, according to S&P. The Saudi government has even advised
Saudi Aramco, the largest oil producer in the world, to slash its future spending on
production and exploration by as much as 25% from $40 bn to $30 bn (see Figure 1).
Saudi Aramco, which usually bases its investment on oil supply and demand, is trying to
execute some of its projects at lower costs, while deferring others until a picture of the
oil market becomes clear.9
Figure 1
8
Financial Times, 16 January, 2015, p. 5.
9
Summer Said & Benoit Faucon, “Oil-Drop Pain Spreads to Saudi Arabia’s Behemoth”, Wall Street,
February 19, 2015.
6OIL PRICES: GLUT OR GEOPOLITICS?
In December 2014, Saudi Aramco asked oil-services companies, including Baker
Hughes Inc., Halliburton Co. and Schlumberger Ltd., for discounts of up to 20% on
services such as well-testing procedures. Combined, the companies do about $6 bn a
year in business with Aramco. Baker Hughes offered a small discount, but Aramco has
held out for 20%. Perhaps as a result of these requests, Halliburton said it anticipated
“headwinds” in the Middle East. Recently, Saudi Arabia has created a new 10-member
Supreme Economic Council for state-run Saudi Aramco, headed by the Saudi King’s son
and deputy crown prince Mohammad Bin Salman. The Supreme Economic Council
replaced the Supreme Petroleum Council, which used to help set the Kingdom’s oil
policy.10 The Council had approved a restructuring of Saudi Aramco that included
separating it from the oil ministry. Some claim the move will bring more flexibility to the
company, so it could make decisions on a commercial basis and keep full financial
control.11 Others, however, see the move as paving the way for a member of the royal
family to replace oil minister Naimi, while leaving Aramco to be run by technocrats.
However, the restructuring could also be seen as a tacit admission that oil minister
Naimi’s policy not to cut production in the face of steeply falling oil prices, was wrong.
This policy has cost Saudi Arabia and fellow OPEC members billions of dollars in lost
revenues.
The measures demonstrate some of the risks OPEC countries took when they decided
not to cut production to boost prices. The Saudi-backed decision has hurt large publicly
listed companies such as Royal Dutch Shell PLC, and Chevron Corp., but is now
ricocheting and hitting national oil companies. However, Saudi Aramco isn’t the only big
state-owned oil company seeking to cut costs. UAE oil minister Suhail bin Mohammed
al-Mazroui said during a January energy event in Dubai that his country, along with
other producers, would squeeze oil contractors’ costs to adapt to lower oil prices: “We
will need the service companies and contractors to understand the cycle of the oil
market.” Qatar Petroleum and Royal Dutch Shell PLC have called off plans to build a
$6.5 bn petrochemical plant. In Oman, state-owned Petroleum Development of Oman
(PDO) postponed the award of a $1 bn contract to supply and manage oil-production
pumps for seven years t0 2021. The government informed bidders they would have to
wait for a year to see how oil prices are evolving before committing to major projects.
10
Saudi Aramco Restructured, published by the Saudi Gazette on May 2, 2015.
11 Ibid. Reuters, January 13, 2015.
7ARAB CENTER FOR RESEARCH AND POLICY STUDIES
Last month, S&P warned that further declines in oil prices could dampen economic
growth in the GCC countries, where about 46% of nominal output derives from oil.
Unlike most of its neighbours, oil constituted only 30% of UAE’s GDP. For most other
OPEC countries, oil revenues are even more essential. Oil revenue in recent years
helped Oman maintain a strong economic position. Oil accounted for just less than half
of the country’s GDP last year. Now Omani crude oil is forecast to average
approximately $80 a barrel over the next two years, down substantially from S&P’s
previous assumption of $95 a barrel. “This has a negative impact on our assessment of
Oman’s fiscal and external position given the country’s high dependence on revenues
from hydrocarbons, oil in particular,” the ratings agency said. S&P now expects that
Oman’s current account surplus, which was equivalent to over 10% of GDP in 2012, will
turn to a small deficit by 2017. Some OPEC countries need very high prices to “break
even” on government spending. Iran for instance, needs prices at around £130 a barrel
while Saudi Arabia needs an oil price of US$106/barrel in 2015 to fiscally break even, up
from $98 a barrel in 2014, according to the International Monetary Fund (IMF) (see
Figure 2).
In January, Iranian President Hassan Rouhani said that countries behind the fall in
global oil prices would regret their decision, warning that Saudi Arabia and Kuwait
would suffer alongside Iran from the price drop. He added that “If Iran suffers from the
drop in oil prices, other oil-producing countries such as Saudi Arabia and Kuwait will
suffer more than Iran. In 2013 oil accounted for roughly 90% of Saudi Arabia’s overall
budget income and 92% of Kuwait’s according to Reuter’s calculations based on official
data. On the other hand, only a third of Iran’s budget is based on oil sales, with an
estimated 60% of the country’s exports tied to oil”.12
12
Ibid. Reuters, January 13, 2015.
8OIL PRICES: GLUT OR GEOPOLITICS?
Figure 2
OPEC Median Budgetary Breakeven Price
Source: OPEC “Break-even” Prices (Matthew Hulbert/European Energy Review).
The Arab Gulf oil producers earned a net $574 bn in oil export revenues in 2013.13
Producers earned an estimated $452 bn in 2014, down 21% from the year before, a
figure that is expected to drop to $340 bn in 2015 based on an average oil price of
$60/barrel throughout 2015 (see Table 1). The Arab Gulf oil producers will be
vulnerable to declines in the price of oil as long as they continue to depend on oil
13
Mamdouh G Salameh, “Impact of US Shale Oil Revolution on the Global Oil Market, the Price of Oil &
Peak Oil” (a paper given at a Symposium of Peak Oil, 2-4 April, 2013, Doha, Qatar.
9ARAB CENTER FOR RESEARCH AND POLICY STUDIES
export revenues—currently 85%-90%—14 and fail to diversify their economies. This has
been the predominant case since the discovery of oil in the early twentieth century, and
makes economies vulnerable to the volatility of oil prices, and the steeply-rising
domestic oil consumption for power generation and water desalination. This pattern of
consumption began with subsidies, which in 2011 amounted to $523 bn, due mainly to
increases in the Middle East and North Africa in the aftermath of the Arab Spring.15
Table 1
Net Oil Export Revenues of the Arab Gulf Oil Producers
(US$ bn)
Countries 2013 2014 2015
Iraq 86 74 55
Kuwait 92 72 54
Qatar 42 34 25
Saudi Arabia 274 208 156
UAE 53 42 31
Oman 27 22 19
Total 574 452* 340*
Source: US Energy Information Administration’s (EIA) 2014 Short-term Energy Outlook (STEO) /
Author’s projections for earnings in 2014 & 2015*Based on an average price of oil of $60/barrel in the
second half of 2014 & 2015.
In 2015, the Gulf Cooperation Council (GCC) countries are projected to consume 6.38
mbd, or 33% of their oil production, much of which will be used to generate electricity
and power water desalination plants. At present there are 199 desalination plants of
different capacities in the GCC countries, and there are plans to add another 38 (see
Table 2). Most of the desalination plants are powered by oil.
14
Ibid
15
Mamdouh G Salameh, “Impact of US Shale Oil Revolution on the Global Oil Market, the Price of Oil &
Peak Oil” (a paper given at a Symposium of Peak Oil, 2-4 April, 2013, Doha, Qatar.
10OIL PRICES: GLUT OR GEOPOLITICS?
Table 2
Existing & Planned Water Desalination Plants
In the GCC Countries
----------------------------------------------------------------------------------------------------------------
UAE Saudi Arabia Kuwait Qatar Oman Bahrain Total
----------------------------------------------------------------------------------------------------------------
Existing 47 97 6 8 35 6 199
Planned 8 11 2 2 14 1 38
Capacity (mm3)1776 1721 702 391 168 246 5004
----------------------------------------------------------------------------------------------------------------
Source: Courtesy of International Journal of the Environment & Sustainability (IJES), Vol. 1 No.3.
This means that the Arab Gulf countries will have to cut their domestic oil consumption
drastically or replace oil with nuclear power and solar energy in electricity generation
and water desalination. Failing to do either would relegate the states to minor crude oil
exporters by 2030, and by 2032 they could cease to export altogether (see Table 3).
Thus, the drive toward using solar or nuclear power for electricity generation and water
desalination should be pursued earnestly in the GCC countries.
Table 3
Combined Current & Projected Production, Consumption &
Export of Crude Oil Exports in the Arabian Gulf Countries, 2010-203
(mbd)
Year Production Consumption Net Exports / Imports
--------------------------------------------------------------------------------------------------------------
2010 16.65 4.59 12.06
2011 18.70 4.77 13.93
2012 18.92 5.35 13.57
2013 19.07 5.99 13.08
2015 19.51 6.38 13.13
2020 20.90 9.64 11.26
2025 19.83 13.19 6.64
2030 18.55 17.06 1.49
2031 18.44 17.91 0.53
2032 18.33 18.81 - 0.48
2035 17.79 21.78 - 3.99
--------------------------------------------------------------------------------------------------------------
11ARAB CENTER FOR RESEARCH AND POLICY STUDIES Sources: US Energy Information Administration (EIA), Oil Outlook 2013 / OPEC Annual Statistical Bulletin 2014 / BP Statistical Review of World Energy, June 2014 / Author’s projections. Diversification: Challenges and Opportunities With proven reserves of 645 bb, or 39% of the world’s proven reserves and a combined GDP exceeding $1.9 trillion at current prices, the Arab Gulf countries could be a formidable economic bloc. However, continued dependence on oil export revenues makes this difficult. By 2035, the Arab Gulf oil producers could be earning more than $1 trillion (in US$ 2011). This would give them great economic clout, but also huge geopolitical leverage in world politics. It could also make them very vulnerable to any decline in the price of oil. The vulnerabilities, discussed in the previous section, would need to be forestalled. To do this, the Gulf countries would not only have to accelerate diversification and the transition to renewable and nuclear energy, but also become smarter in their investments. The proposed mode of economic diversification for the Gulf states is not industrialization, because the Gulf countries would never be able to compete with the top industrial nations in the world though some form of industrialization in petrochemicals has been taking place particularly in Saudi Arabia. Nor does it mean investing in real estate, but rather in food production projects, for instance in the Sudan, and also in thriving and futuristic industries worldwide. With a global food shortage predicted, food prices could in the future rival, if not, exceed those of crude oil. Investments in the Sudan, which has the land and the water resources not only to become the food basket of the GCC countries but also a great source of food export revenues for them, will save the GCC countries an estimated $20 bn in food imports from the United States. Intensive investment in renewable energy is also advisable, particularly solar power, nuclear energy and water desalination technology. Solar power along with nuclear energy could meet all the electricity needs of the Gulf countries. Solar energy could also power an extensive network of water desalination plants along the Arab Gulf coastlines extending from the Arabian Gulf to the Arabian Sea and the Red Sea, providing not only water for drinking but also for irrigation. Moreover, solar electricity could eventually be exported to Europe, earning a sizeable income for the Gulf countries. 12
OIL PRICES: GLUT OR GEOPOLITICS?
Impact of Sanctions and Declining Oil Prices on Iran
To balance its budget, Iran needs to sell oil at $130 a barrel. The international
sanctions against Iran and the steep decline in the price of oil have adversely affected
the value of its currency and reduced its oil exports from 1.81 mbd in 2012 to 1 mbd in
2014 (See Table 4).
Table 4
Iran’s Current & Projected Crude Oil Production,
Consumption, Exports & Sustainable Capacity, (2009-2030)
(mbd)
----------------------------------------------------------------------------------------------------------------
2009 2010 2011 2012 2013 2014 2015 2020 2030
----------------------------------------------------------------------------------------------------------------
Production 3.56 3.54 3.58 3.74 3.56 3.15 3.17 3.40 3.35
Consumption 2.01 1.87 1.91 1.93 2.00 2.15 2.17 2.57 3.39
Net exports/Imports 1.55 1.67 1.67 1.81 1.56 1.00 1.00 0.83 -0.04
------------------------------------------------------------------------------------------------------------
Sources: IEA’s World Energy Outlook 2014 / BP Statistical Review of World Energy,
June 2014/ OPEC Annual Statistical Bulletin 2014 / Author’s Estimates.
The decline of crude oil prices has led to speculation about the financial position of Iran.
However, a closer look at government finances and trade shows that Iran’s vulnerability
to oil price fluctuations is reduced enormously. The current Iranian budget has been
based on an average crude oil price of $60 a barrel and a daily export of 1mbd. This
translates into $36 bn budgeted for crude export revenue for the year ending March 20,
2015. The budget included the export of 297,000 barrels per day (b/d) of gas
condensate, as well as the sale of gas to domestic petrochemical units. The total
budgeted hard currency revenue for the government had been projected as $51.5 bn
with 20% of that revenue going to the National Development Fund (NDF) and the rest
to the treasury.16 Before the recent fall in oil prices, Iran was selling its crude at an
average price of $105-$110/barrel. At $60/barrel, the government will face a shortfall of
about $14-$16 bn, or 27%-31% of total planned government revenue.
16
Ibid
13ARAB CENTER FOR RESEARCH AND POLICY STUDIES
Even if oil prices drop further and Iran faces a greater shortfall, the government can
always access the NDF, which has been set aside to assist the economy by extending
loans to address investment needs. The latest available statistics show that the Fund’s
resources exceed $62 bn.17 Iran’s budget for the next fiscal year will be based on an oil
price of $75/barrel. If higher crude oil prices don’t materialize, Iran could compensate
some of the export revenue loss by increasing natural gas exports. Iran’s natural gas
production has increased by 60 million cubic metres (mcm) since March 2014 and this
trend would continue, providing more gas exports.18 Still, low oil prices will have some
adverse impact on Iran’s economy, though the effect would be manageable in the short
and medium term.
Oil and Iran’s Nuclear Programme: Impact on Oil Prices
Oil is at the heart of Iran’s nuclear programme. Iran needs nuclear energy to replace
the crude oil and natural gas currently being used to generate electricity, thus allowing
more oil and gas to be exported. Without nuclear power, Iran could cease to remain a
major crude oil exporter and be relegated to the ranks of small exporters as early as
2020. This would have catastrophic implications for its economy and also the global
price of oil.19
The Iranian nuclear programme is under attack from the US and the European Union
(EU), with Tehran being accused of using its nuclear programme as a smokescreen to
conceal the development of nuclear weapons. The US government has argued strongly
that a country so apparently well-endowed with oil and natural gas as Iran cannot have
any legitimate need to develop nuclear energy. However, when the Shah started Iran’s
nuclear energy programme in 1974, nuclear power could not be justified in economic
terms, as Iran’s population was less than half its present 78 million, oil production was
6 mbd, almost double the present production of 3.15 mbd and energy consumption was
less than a quarter of consumption today. Unlike now, Iran’s oil reservoirs were not in
decline. The question is: since the United States strongly encouraged the Shah to build
nuclear power plants in 1974, why is it objecting now to Iran pursuing a nuclear
17
Ibid
18
Mamdouh G Salameh, “Impact of US Shale Oil Revolution on the Global Oil Market, the Price of Oil &
Peak Oil” (a paper given at a Symposium of Peak Oil, 2-4 April, 2013, Doha, Qatar.
19
Ibid
14OIL PRICES: GLUT OR GEOPOLITICS?
programme? The answer is that in 1974 the Shah of Iran was a great friend of Israel
while in the first decade of the twenty-first century, Iran is no longer friendly with
Israel.20
Security, too, plays its part in Iran’s nuclear program. Though energy is a top priority,
Iran would certainly not be averse to possessing nuclear weapons. Their logic is that if
Israel, India, Pakistan and North Korea can possess arsenals of nuclear weapons, why
not Iran? Neither sanctions nor the threat of war against Iran could force it to relinquish
its nuclear programme. Even direct negotiations between the United States and Iran
will not shift Iran an iota from its determination to acquire nuclear weapons. Iran is
determined to acquire nuclear weapons and will face down the United States, the
European Union, Israel, and the world community to get them. Its leverage is that, if
attacked, Iran could plunge the world in the biggest oil crisis in history. This leaves the
US and its allies with no militarily or economic leverage. It is also possible that the US
and its allies including Israel will end up acquiescing to a nuclear Iran and might even
end up forming an unholy alliance to siphon off the oil and energy resources of the
Arab gulf countries.
For a country with what is estimated to be the fourth largest proven crude oil reserve in
the world, and the fifth largest oil exporter, the prospect of ceasing to be a major oil
exporter by 2020 might seem like a nightmare. Already, however, Iran is taking a
critical look at the future of its oil industry. In the face of steadily declining production
in its major onshore oilfields, deteriorating well reservoirs from past over-production,
fast-rising domestic consumption, and a shortage of reserves and investment funds,
Iran is under mounting pressure to remedy the situation if it is to avoid being relegated
to the ranks of small oil exporters in the next decade.
In the furore about Iran’s nuclear programme, one important fact is being overlooked –
Iran’s oil resources may not be sufficient to supply its rapidly growing population
without major cuts in exports. Iran’s proven reserves have been greatly overstated to
the extent that it may actually need nuclear power to fuel its economy and remain an
oil exporter. Iran’s oil industry – hampered by years of mismanagement, war and US
20
Mamdouh G Salameh, “Impact of US Shale Oil Revolution on the Global Oil Market, the Price of Oil &
Peak Oil” (a paper given at a Symposium of Peak Oil, 2-4 April, 2013, Doha, Qatar).
15ARAB CENTER FOR RESEARCH AND POLICY STUDIES sanctions – is a mess; the country hasn’t been able to make its OPEC quota since 2000. Plans to raise output are well behind schedule, and long-term plans for expanding production capacity may have to be scaled back as well because of insufficient reserves. Against this background, it is perhaps not so surprising that one of OPEC’s leading members should want to develop a nuclear energy. Struggling to Raise Production Capacity From a peak production of 6 mbd and crude oil exports of 5.7 mbd in 1974, Iran in 2014 was struggling even to produce 3.15 mbd and export 1.00 mbd of crude. If the current trend continues, Iran will cease to be an oil export altogether by 2030. Political and economic pressure from the United States and other Western governments has frozen foreign investment, and is squeezing the fragile Iranian energy industry, a problem that is in many ways at the heart of the nuclear controversy involving Iran. The squeeze comes at a time when consumption is booming, adding strains to a government burdened by sanctions and wary of prompting discontent. Foreign investors in Iran’s oil development have been scarce since the Islamic Revolution in 1979, and the oil industry has now suffered decades of economic, political and technical problems. Iran has signed no firm oil or natural gas contracts with foreign investors since June 2005 when Mahmoud Ahmadinejad was elected president and began flaunting Iranian nuclear ambitions and renewing tensions with the West.21 With crude oil production currently close to 3.17 mbd –some 2.83 mbd below its highest level of 6 mbd recorded in 1974— and despite ambitious plans to raise production to levels well in excess of the 1974 level, Iran has struggled to increase its output. However, far from achieving its ambitious long term aims, Iran may well find that its crude oil production is likely to fall well below current levels. Each year Iran has to find ways to make up for production declines ranging from 200,000 b/d to 500,000 b/d out of a total output of some 3.17 mbd. Due to growing domestic oil demand and an inability to expand its production capacity, net oil exports have been steadily declining. Some analysts say that if this acute imbalance between production and demand at home continues unchecked, Iran will have little oil left over to export by about 2020. 21 Mamdouh G Salameh, “Iran May Need Nuclear Power to Improve Its Oil Outlook” ( A paper given at the 27th North American Conference, 16-19 September, 2007, Houston, USA). 16
OIL PRICES: GLUT OR GEOPOLITICS?
A major stumbling block in Iran’s attempts to raise capacity is its reservoir management
practices, which were used to achieve the record levels of the 1970s. During this
period, the re-injection of gas into oil reservoirs was greatly increased. In less than 10
years, crude oil production rose from under 2 mbd to 6 mbd. This proved too much for
some large reservoirs and output began to fall sharply. By 1978, it was down to 5.2
mbd. The same year, a series of strikes by workers in the upstream sector led to a
period of turmoil during which reservoir management suffered considerably. In 1979,
output was down to 3.2 mbd. The following year, the war with Iraq helped push
production below 1.5 mbd and it did not rise above 3 mbd until 1990. Since then, Iran
has only been able to add about 1 mbd to its production capacity.22
Problems compounded. To maximize its production capacity – or even maintain it – Iran
needs huge amounts of cash, yet the current situation does not allow for such vital
investments. These either have to be postponed or paid for by committing Iran’s future
oil production. The excesses of the 1970s and the neglect of the 1980s-90s have left
Iran with pressure problems and water encroachment in several of its oilfields. Billions
of barrels of reserves have probably been lost as a result, despite attempts to step up
gas injections in recent years.
Iran’s Oil Reserves
Iran claims to have proven reserves of 157 bn barrels (bb).23 While the Oil & Gas
Journal (O&GJ) and the BP Statistical Review of World Energy seem to concur, a
number of international experts have disputed the figure (see Table 2).
Table 5
Iran’s Remaining Proven Oil Reserves, 2010
(bb)
Oil & Gas BP Statistical Samsan Mamdouh Ali
Journal Review 2006 Bakhtiari Salameh Saidi
22
BP Statistical Review of World Energy, June 2014, p. 6.
23
ASPO Newsletter # 62, February 2006.
17ARAB CENTER FOR RESEARCH AND POLICY STUDIES
157.0 157.0 36.0 30.0 37.0
Sources: Oil & Gas Journal / BP Statistical Review of World Energy, June 2014/ Author’s calculations.
Whereas O&GJ and BP rely mainly on published ‘official’ figures (which are usually
bloated and highly political), two retired National Iranian Oil Company (NIOC) experts:
Dr Ali Samsan Bakhtiari and Dr Ali Muhammed Saidi, estimated Iran’s proven reserves
at between 36 bb and 37 bb respectively.24 However, starting with a reserve base of 59
bb in 1985 (as reported by OPEC’s Annual Statistical Bulletin 1989), taking into account
Iran’s production of 34 bb during the period 1985-2014, and allowing for the addition of
5 bb of recoverable reserves from the Azadegan oilfield, Iran’s actual proven reserves
can be estimated at no more than 30 bb. Moreover, Iran’s four largest onshore oilfields
(Gachsaran, Marun, Ahwaz and Agha Jari) are well past their peak. They were probably
producing around 3.93 mbd in 1974, since when their collective output has sunk to
about 1.21 mbd in 2014 (see Table 6).
Table 6
Comparative Oil Production by Iran’s Largest Onshore Fields
1974 vs. 2014 (‘000 b/d)
Oilfield 1974 2014 Rate of Decline
------------------------------------------------------------------------------------------------------------
Ahwaz-A 872,900 580479 - 33
Ahwaz-B 83,000 54842 - 34
Agha Jari 1,009,643 127319 - 87
Gachsaran 911,526 142691 - 84
Marun 1,053,503 306362 - 71
------------------------------------------------------------------------------------------------------------
Total 3,930,572 1,211693 - 69
------------------------------------------------------------------------------------------------------------
Sources: Official report by the Oil Service Company of Iran (OSCO), 1974 / Author Calculations
24
Mamdouh G Salameh, “Oil & Iran Nuclear Programme: Impact on Oil Prices & the Global Oil Market” (A
presentation given at the Energy Workshop organized by the Arab Centre for Research & Policy Studies,
11 April, 2015, Doha, Qatar).
18OIL PRICES: GLUT OR GEOPOLITICS?
Iran is one of nine top oil producers whose oil production has peaked. Production in the
United States peaked in 1971, Canada (1973), Iran (1974), Indonesia (1977), Russia
(1987), UK (1999), Norway (2001), Mexico (2002) and Saudi Arabia (2005) (see Table
7).
Table 7
The Peak & Depletion of Conventional Crude Oil
------------------------------------------------------------------------------------------------------------
Country Date of Peak Date of Peak % % Ultimate
Discovery Production Discovered Depleted Production
(bb
------------------------------------------------------------------------------------------------------------
Canada 1950s 1973 95 76 25
Iran 1960s 1974 94 76 130
Indonesia 1950s 1977 93 65 31
Mexico 1950s 2002 94 55 55
Norway 1970s 2001 93 48 33
Russia 1940s 1987 94 61 200
Saudi Arabia1950s 2005 96 60 210
UK 1970s 1999 94 63 32
USA 1930s 1971 98 88 195
The World 1962 2006 94 56 2100
------------------------------------------------------------------------------------------------------------
Sources: Association for the Study of Peak Oil’s (ASPO) website www.peakoil.net / IEA /Petroleum
Review / OPEC.
Future Plans for Capacity Expansion
Iran will find it hard to increase oil production capacity over the next decade or so
whatever the size of its reserves. It has not always managed to attract the foreign
investment it needs to raise capacity substantially, and where foreign companies have
been tempted in, there have sometimes been delays in bringing important projects into
production.
US companies are excluded from Iran under the terms of the Iran Libya Sanctions Act
of 1996 (ILSA), and many other companies have found Iran’s upstream terms
unattractive or the levels of political risk too high. There have also been problems with
buy-back contracts in some fields. The rising capital cost of developing Iran’s oilfields
has cut the rate of return on projects, and some companies are reported to be trying to
renegotiate terms. In other cases, companies have asked for higher rates of return than
19ARAB CENTER FOR RESEARCH AND POLICY STUDIES
those generally on offer. Among the projects said to be affected are the Azadegan and
Yadavaran oilfields. Azadegan was supposed to go onstream by 2012, and is estimated
to hold some 26 bb of reserves, of which between 5 bb and 6 bb are thought
recoverable. NIOC is reportedly looking for new partners on the $2 bn development of
the southern sector of the Azadegan oilfield after Japan’s Inpex lost the contract
awarded seven years ago.
China has been involved in at least ten projects valued over $32 bn in Iran. These
projects, in various phases of discussion, contracting, or construction, focus primarily on
natural gas and oil extraction efforts in the Gulf, particularly the North and South
portions of Azadegan and Pars fields. The Yadavaran contract is still under negotiation.
The two field complexes are slated to produce more than 550,000 b/d. The rate of
depletion is such that Iran needs to replace at least 300,000 b/d of capacity each year
simply in order to maintain output at existing levels. That is why Iran has not been able
to meet its OPEC production quota for the last 15 years. The maximum that Iran can
produce at present is only about 3.17 mbd. This could even fall slightly in the short
term as output from the older fields continues to decline. Even if sanctions are lifted
and Iran was able to import the latest American oil technology, it could add no more
than 200,000-300,000 b/d a day to its production. 25
Nuclear Power to Rescue?
Given the problems in its oilfields, Iran may struggle to maintain production at current
levels. The development of South Pars condensate could provide an extra 0.5 mbd or so
over the next decade. Still, there appears to be little prospect of achieving a capacity
level beyond 3.4 mbd, and it is more likely that Iran’s production capability will be far
below that level. Under these circumstances, nuclear power may have an important role
in restricting the consumption of hydrocarbons in Iran and allowing more oil and gas to
be exported.
In 2012, Iran produced 355 bn kWh of electricity (30.27 million tonnes of oil equivalent)
(See table 8), but used the equivalent of 610,000 b/d of oil and natural gas to generate
electricity, a figure expected to rise to 770,000 b/d this year. Generating nuclear
electricity will enable Iran to replace at least 93% of the oil and gas used in electricity
25
US Department of Energy (DOE): Independent Statistics & Analysis 2013.
20OIL PRICES: GLUT OR GEOPOLITICS?
generation in 2030. Based on these figures, Iran’s quest for nuclear energy seems
justifiable.
Table 8
Iran’s Current & Projected Electricity Generation, 2012-20130
Volume 2012 2015 2020 2025 2030
----------------------------------------------------------------------------------------------------------------
Billion kWh 355 447 657 965 1418
Mtoe 30.27 38.11 56.00 82.28 120.91
mbd 0.61 0.77 1.12 1.65 2.43
----------------------------------------------------------------------------------------------------------------
Sources: IEA World Energy Outlook 2014 / BP Statistical Review of World Energy, June 2014 / US
Energy Information Administration (EIA) Iran’s Energy
Data: www.eia.doe.gov/cabs/background.html / World Bank Sources.
Iran’s Ministry of Energy estimates that the country will have to increase its electricity-
generation capacity to 60 gigawatts by 2015. It is in this context that the Iranian
government justifies the one-gigawatt Bushehr nuclear reactor and suggests seven
more such reactors with similar capacity by 2020. The Iranian government argues that
seven gigawatts of nuclear power generation would free up 190 million barrels of oil per
year (520,000 b/d), equivalent to 16% of the country’s current production, or $14 bn.
Iran’s domestic demand for electricity has been growing at an annual rate of 8%. If this
trend continues –if crude oil is not replaced by another source of energy and if crude oil
production does not increase significantly—Iran will become a net oil importer within
the next two decades. This would be a huge catastrophe for a nation that obtains 85%
of its total export earnings from oil. By 2021, 10% of Iran’s electricity is supposed to be
supplied by nuclear power, 20% by hydro-power, 5% by other sources and the
remaining 65% by natural gas, thus eliminating the country’s reliance on oil.26
The Geopolitics of Iran’s Nuclear Issue
26
Fleet Street Publications, London, 21 December 2009, pp.1-2: www.fleetstreetinvest.co.uk/nuclear-
energy-/Iran-needs-nuclear-running.
21ARAB CENTER FOR RESEARCH AND POLICY STUDIES
There are three major reasons why Iran needs nuclear power: Oil, water, and security.
Iran has to develop nuclear power because it is running out of oil according to Iranian
oil expert Dr Bakhtiari, who is on record saying that Iran’s claim of having “massive”
proven oil reserves is false. He made that reality crystal clear to Iran’s leaders a few
years ago when he told the former Iranian president Ahmadinejad that Iran’s proven oil
reserves are closer to 36 bb and not the claimed 157 bb. That is why Iran needs
nuclear power, because its oil industry is struggling to raise oil production level close to
4 mbd and it is only going to get worse. That is also why Iran will never give up its
nuclear programme.27
The second reason is water. With a population of 78 million, 70% of whom are under
30 years of age, and heading towards 100 million by 2025, and with Iran projected to
cease to be a major oil exporter by 2020, the Iranian state will have no major source of
revenue to support a growing population. With such rapid population growth, Iran’s
water needs have grown enormously. That is where nuclear power comes in. Water
desalination is an extremely energy-intensive operation, but nuclear plants can be used
for the dual purpose of generating electricity and producing desalinated water.28
Security is also a factor. Despite Iran’s adamant denials that it does not seek to acquire
nuclear weapons, this seems to be the case. Iran looks with envy at the great oil
resources of its Arab neighbours across the Gulf and hopes that one day in the near
future it can get its hands on them, or at least derive some share from the revenue. A
nuclear Iran desperate for oil could grab some of its Gulf neighbours assets, for
example the Majnoon oilfield straddling the Iraqi/Iranian border (with estimated proven
reserves of 20 bb), the Saudi Safaniya offshore oilfield (the biggest offshore field in the
world) or Qatar’s offshore gasfields (the third biggest in the world). It could also hold its
Gulf neighbours to ransom by threatening to block their oil exports through the Straits
of Hormuz unless wealth is shared. The United States would certainly not come to the
defence of its Arab allies against a nuclear Iran.
27
Ibid, p.2
28
Elvin Mirzayev, “Sanctions & Oil Prices Bring the Russian Economy Near Collapse“, January 21 2015,
accessed on 2 February 2015 at : www.investopedia.com.
22OIL PRICES: GLUT OR GEOPOLITICS?
In assessing the current situation, it is important take into account that Iran is a
hegemonic power by nature. Under the Nixon administration it had the support and co-
operation of the United States to establish itself as the policeman of the Gulf. A nuclear
Iran aspires to resume that role independently from the United States. That is where a
clash of national interests between the nations may arise. Iran has pursued its nuclear
programme behind the shield of high oil prices, and so far the policy has worked. At the
United Nations Security Council not a single member, including the United States, has
proposed boycotting Iranian oil. The mullahs, who are first and foremost interested in
the survival of their regime, have wagered that eventually they can replace their oil
shield with a nuclear one – and meanwhile the petro-dollars will just keep rolling in.
Impact on Global Oil Prices of Lifting Iran Sanctions
There is no doubt that a nuclear deal between Iran and the six major powers could lead
to a relaxation of global tension particularly between Iran and the United States.
If a deal is struck, then sanctions against Iran would be expected to be lifted in whole
or in part. This means that Iran could eventually import advanced American oil
technology such as enhanced oil recovery (EOR) and attract foreign investment to
repair its damaged oil industry and virtually depleted oil reservoirs.
Even if sanctions were lifted today, however, it would take more than two years
to deploy the EOR technology and try to increase production. Even then it might only
limit the fast depletion in its oilfields rather than increase production. If a final deal is
reached, it’s likely to be at least a year before international sanctions are lifted, so no
physical market impact is expected before 2016. Given current market conditions,
moreover, only limited international investment will likely be available to help increase
Iran’s production. At today's oil prices, investors are cutting back everywhere. Such
realities cast major doubt on Iranian oil minister Bijan Zanganeh's recent claim that if
sanctions were to end, "Iran will double its oil exports within two months.”
A nuclear deal will not enable Iran to flood the oil market with oil. The decline in Iran’s
oil exports over the last few years was not solely due to tighter sanctions, but rather
mainly due to fast-depleting old oilfields whose reservoirs were damaged in the 1970s.
Since then Iran has not had the chance to repair its oil industry. If sanctions were lifted
and Iran was able to import the latest American oil technology, it could add no more
than 200,000-300,000 b/d a day to its production, and even this may not translate into
added exports due to steeply-rising domestic consumption.
23ARAB CENTER FOR RESEARCH AND POLICY STUDIES Lifting sanctions against Iran would thus hardly affect global oil prices or the global oil market in the long-term. Any initial impact could be the result of Iran releasing some of its alleged stored crude oil on tankers or floating containers, but the impact would be short-lived and limited. Iran might, however, benefit from the development of its huge natural gas reserves. Impact of Sanctions and Declining Oil Prices on Russia Sanctions were imposed on Russia in the aftermath of its intrusion into the Ukraine in February 2014 and the ensuing annexation of the Crimea. However, the Russian intrusion has been prompted by energy and geopolitical factors. In terms of energy, 50% of Russia’s gas and oil supplies to the European Union (EU) are piped through the Ukraine. It is in Russia’s interests to make sure that these gas and oil pipelines are well defended not only against sabotage but also against any attempt by the Ukraine to make use of the gas without paying for it. Ensuring that there is a pro-Russian government in the Ukraine thus becomes critical. There is also a geopolitical dimension. The Ukraine has become a pawn played by the United States and EU in its chess game with Russia. At the heart of the Ukraine-Russia crisis are the EU’s attempts (incited and abetted by the United States) to draw the Ukraine away from Russia into the EU and eventually into NATO, thus bringing NATO to the borders of Russia. Having failed to achieve their aim, the EU supported by the US instigated internal strife in the Ukraine, which ended with the ousting of the legally- elected president and eventually the annexation of the Crimea. If the conflict between the US/EU and Russia continues to escalate, an oil and gas embargo could considered as a tool against Russia. Even before the current tension over the Ukraine, Russia was in the process of reorienting its energy needs to Asia with emphasis on China, India, Japan, and South Korea in view of the growth in energy demands and the likely stagnation or decline of demand in Europe over the next few decades. The combination of sanctions and falling oil prices has adversely affected the Russian economy by sending it into recession and causing the Russian currency to lose 40% of its value against the dollar. However, the Rouble has recovered some ground of late, a signal that the worst is virtually over. Russian international reserves also decreased from $510.5 bn to $386.2 bn during 2014. The combined effect of sanctions and low oil prices has resulted in downside pressure on Russia's GDP, which grew by only 0.7% in the third quarter of 2014 (see 24
OIL PRICES: GLUT OR GEOPOLITICS?
Figure 3). Thus, based on an average oil price of $78/barrel in 2015, the World Bank
forecasts real GDP contraction of 1.7%.29
Figure 3
Still, bilateral trade between Russia and China will provide support for the Russian
economy. China is already Russia's largest single trading partner with bilateral trade
flows of US$90 billion in 2013. The neighbours aim to double the volume to US$200 bn
by the end of the decade,30 and intend to use their national currencies to settle more
energy deals in order to guard against instability in a world energy market dominated
by the US dollar. As President Putin said in a speech at the Asia-Pacific Economic
Cooperation Summit on 10 November 2014, “If we can settle large deals in this way, it
will mean the influence of the petrodollar in global oil markets will decrease.
29
Mamdouh G Salameh, “Turning the Gaze towards Asia: Russia’s Grand Strategy to Neutralize Western
Sanctions” (A USAEE Working Paper No: 14-168, posted on 19 July, 2014).
30
Christopher J. Schenk, “An Estimate of Undiscovered Conventional Oil and Gas Resources of the World,
2012, US Geological Survey, Fact Sheet 2012-3042.
25ARAB CENTER FOR RESEARCH AND POLICY STUDIES The petrodollar came into existence in 1973 in the wake of the collapse of the international gold standard under the Bretton Woods agreements, which established the new global economic order and the US dollar as the leading global currency. Former US president Richard Nixon and his then foreign secretary Henry Kissinger understood that the collapse of the gold standard system would cause a decline in the global demand for the US dollar. Maintaining an “artificial dollar demand” was vital for the US economy, so a deal was struck with Saudi Arabia in 1973 that saw every barrel of oil purchased from the Saudis denominated in US dollars. Under this agreement, any country that sought to purchase oil from Saudi Arabia would be required to first exchange its own national currency for dollars. Under the terms of the agreement, the Saudis would be required to agree to price all of their oil exports in US dollars, and be open to investing their surplus oil proceeds in US debt securities. This increased demand for the dollar and US debt securities and allowed the US to buy oil with a currency it can print at will. Thus, maintaining the petrodollar is America’s primary goal, since without it, the US dollar would collapse. In exchange for Saudi Arabia’s willingness to denominate oil sales exclusively in US dollars, the United States offered weapons and protection of Saudi oilfields from neighbouring countries including Israel. In 1975, all of the OPEC nations agreed to follow suit. However, as the US dollar continued to lose purchasing power, several oil- producing nations began to question the wisdom of accepting increasingly worthless paper currency for their own oil exports. Today, several countries have, or are attempting to move away from the petrodollar. Examples include Iraq under Saddam Hussein, Iran, Syria and Venezuela. Additionally, other nations are choosing to use their own currencies for oil, including China, Russia and India. The petrodollar created an immediate demand for the US dollar globally, artificially enhancing its value, so that as global oil demand increased, so did the demand for the dollar. Last month, China and Russia agreed on a currency swap worth 150 bn Yuan ($24.5 bn), a move widely viewed as an effort to reduce the dollar’s influence in both bilateral and international trade and also as a signal that the Yuan is making sound progress toward becoming an established international currency. While international sanctions against Russia have had little effect on the Russian economy so far, it is declining oil prices that have had the biggest impact. Russia will be able to withstand not only the onslaught of sanctions, declining oil prices, and currency depreciation by increasing its oil exports, combined with its trump card, China’s energy needs and financial support. 26
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